Fears Over Europe, U.S. Weigh On Banks, Markets

Citigroup, JPMorgan Chase and Bank of America all have billions of dollars invested in troubled European countries.

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Originally published on August 20, 2011 10:53 am

The stock market is at it again. After bouncing back last week, there was a huge sell-off Thursday.

The Dow Jones industrial average lost 419 points — more than 3.5 percent on the day — and once again, Europe's debt crisis was a big factor. It's affecting European banks which, in turn, affect the U.S. financial sector.

European bank stocks had lost as much as 14 percent of their value by the time the U.S. markets opened.

And so ensued the U.S. sell-off. Shortly after the open, the Dow was down more than 500 points — and Bank of America and Citigroup were among the biggest losers.

U.S. banks have lots on the line: Citigroup has said it has $22 billion invested in the financially troubled European countries of Greece, Ireland, Portugal, Italy and Spain. Additionally, JPMorgan Chase has $17 billion invested and Bank of America has $15 billion.

However, those numbers don't include the much larger indirect stake U.S. banks have in Europe.

U.S. financial institutions lend lots of money to European banks. U.S. banks are also traders in credit default swaps, which function like insurance, so banks may have to pay out in the event of a default.

Canary In The Coal Mine

The market is anxious in part because it's impossible to pin down how much total exposure banks have.

Still, there are those who believe the banks will simply not be allowed to fail.

"I don't sit here worrying about the collapse of the European banking system," says Ernest Patrikis, former vice president and general counsel of the Federal Reserve Bank of New York, which oversees many of the U.S. branches of European banks.

Patrikis says the New York Fed and other regulators are no doubt assessing where the banks' vulnerabilities are. He calls it prophylactic planning.

"To date in the world, no major country has ever let a major bank fail in that country — at least fail overnight or quickly or something," he says. "I think the vulnerabilities go well beyond the banking system."

Those who fret solely about the health of the banks miss the larger point, which is that what happens to banks can hurt the overall economy.

"You have to remember that the banking system is the canary in the coal mine," says Nancy Bush, a banking analyst and contributing editor to SNL Financial.

"Generally, the tremors are felt first in the banking system, as they were in 2008," she says. "And then because of the banks' inability to provide credit, those problems are transmitted into the larger economy."

Another Recession?

And that is how fear and concern about default threatens to undermine an already weak economy.

And Thursday brought more bad news on that front: Morgan Stanley cut its expectations for growth in Europe through next year.

In the U.S., the Philadelphia Federal Reserve said factory activity in its region plummeted; home sales fell last month; and claims for unemployment insurance rose last week.

Meanwhile, the price of gold surged and oil prices fell on fears of another recession.

None of that bodes well for trade or consumer demand, both of which drive growth in Europe and the U.S.

Bush says that flies in the face of all the analysts, including herself, who had projected stronger growth for the U.S. economy later this year.

"Things were going to get better," she says. "Well, now it looks like things may not get better."

During the last recession, the U.S. was able to work its way out. The Federal Reserve lowered interest rates to near zero, and Congress delivered a huge stimulus package.

Now, interest rates are as low as they can go, and there's no support for another spending spree. So it's not clear how the U.S. could pull itself out of another downturn.

ROBERT SIEGEL, host: And I'm Robert Siegel. The stock market is at it again. After bouncing back last week, a big selloff today. The Dow Jones Industrial Average lost 419 points. That's more than 3.5 percent. Once again, Europe's debt crisis was a major factor. And as NPR's Yuki Noguchi reports, Europe's problems often have a knock-on effect here in the U.S.

YUKI NOGUCHI: European bank stocks had lost as much as 14 percent of their value by the time the U.S. markets opened, and so ensued the U.S. selloff. Shortly after the open, the Dow was down more than 500 points. Bank of America and Citigroup were among some of the biggest losers.

(SOUNDBITE OF CNBC BROADCAST)

UNIDENTIFIED MAN #1: We have the fear that there may be a Lehman situation further down the line.

NOGUCHI: Debating the prospect of a banking meltdown prompted anchors on CNBC to go into overdrive.

(SOUNDBITE OF CNBC BROADCAST)

UNIDENTIFIED MAN #2: risk, but it is a risk.

UNIDENTIFIED MAN #3: Well, you're jabbering.

UNIDENTIFIED MAN #2: Yes, it is a risk.

NOGUCHI: U.S. banks have lots on the line. Citigroup has said it has $22 billion invested in the five troubled European countries of Greece, Ireland, Portugal, Italy and Spain. J.P. Morgan has 17 billion. Bank of America, 15 billion. Those numbers don't include the much larger indirect stake U.S. banks have in Europe. U.S. financial institutions lend lots of money to European banks. U.S. banks are also traders in credit default swaps. Those swaps function like insurance, so banks may have to pay out in the event of a default. The market is anxious in part because it's impossible to pin down how much total exposure banks have. Still, there are those who believe the banks will simply not be allowed to fail.

ERNEST PATRIKIS: I don't sit here worrying about the collapse of the European banking system.

NOGUCHI: Ernest Patrikis is former vice president and general counsel of the Federal Reserve Bank of New York, which oversees many of the U.S. branches of European banks. Patrikis says the New York Fed and other regulators are no doubt assessing where the banks' vulnerabilities are. He calls it prophylactic planning.

PATRIKIS: To date in the world, no major country has ever let a major bank fail in that country, at least fail overnight or quickly or something. I think the vulnerability goes well beyond the banking system.

NOGUCHI: Those who fret solely about the health of the banks miss the larger point, and that is that what happens to banks can hurt the overall economy.

NANCY BUSH: You have to remember that the banking system is the canary in the coal mine.

NOGUCHI: Nancy Bush is a banking analyst and contributing editor to SNL Financial.

BUSH: Generally, the tremors are felt first in the banking system, as they were here in 2008. And then because of the banks' inability to provide credit, those problems of the banking system are then transmitted to the larger economy.

NOGUCHI: And that is how fear and concern about default threatens to undermine an already weak economy. Today brought more bad news on that front: Morgan Stanley cut its expectations for growth in Europe through next year. In the U.S., the Philadelphia Federal Reserve said factory activity in its region plummeted. Also, U.S. home sales fell last month, and claims for unemployment insurance rose last week. Meanwhile, the price of gold surged and oil prices fell on fears of another recession. Nancy Bush says that flies in the face of all the analysts, including herself, who'd projected stronger growth for the U.S. economy later this year.

BUSH: Things were going to get better. Well, now it looks like things may not get better.

NOGUCHI: During the last recession, the U.S. was able to work its way out. The Federal Reserve lowered interest rates to near zero, and Congress delivered a huge stimulus package. Now, interest rates are as low as they can go, and there's no support for another spending spree. So it's not clear how the U.S. could pull itself out of another downturn. Yuki Noguchi, NPR News, Washington. Transcript provided by NPR, Copyright NPR.